Financial Inclusion in India through Small Banks and Payment Banks

Not every bank is constructed with large Corinthian columns and granite facades. In reality, smaller banks are far more numerous and influential than the big boys in the banking industry. When it comes to making financial inclusion a reality for billions of people around the world, smaller banks, telecommunication providers, and retailers are in a great position. Small Bank’s smaller stature makes them more nimble, and their location primarily within rural communities gives them a level of trust that larger banks simply don’t have. Non-banks like telecommunication providers and retailers have great reach to people who live far from bank branches. Non-banks frequently have a trusted relationships with people who have never had a relationship with a bank.

India’s central bank (RBI) is now seriously considering two new categories of financial service providers in India:”Payment Banks and “Small Banks”. This is being considered a viable solution in India where roughly 45% of the population don’t have checking accounts. These new category of “banks” will offer limited services that include accepting deposits, extending credit and making remittances. Their services will be provided throughout rural areas via branch networks, business correspondents and in conjunction with networks of other payment banks. Altogether, these include:

Supermarket Chains

Finance Companies

Non-Banking Finance Companies

Corporate Business Correspondents

Cooperatives

Public Sector Entities

Micro Finance Institutions

Local Banks

Mobile Telephone Companies

Private Businesses

Pre-Paid Instrument Issuers

As such, their influence in rural communities will be considerable, making it easier for rural Indians to access financial services that have previously been unavailable. You might even say the Indian government is banking on the creation of these payment and small banks to make financial inclusion rates blossom throughout the country.

As can be expected, there are still some obstacles that need to be overcome in order for these smaller payment banks to be effective in their mission. On top of licensing and capital requirements, these new actors need to get established, invest in technology and marketing, and scale their solutions. Even for existing actors – telecommunications companies and retailers, and especially for new actors – this will be a significant investment.

One of my concerns about all this is that to maximize the benefit to the financially underserved, these new providers must be “open” for them to maximize their benefit to their customers. Otherwise, it will be virtually impossible for the payment banks and small banks to operate in a cost-effective manner. India has already invested in a National Payment Switch that is interoperable with all the banks, making this openness easier to achieve. But just basic interoperability is a component of a broader open strategy – I’ll write more about this in a future post.

So, this is a very exciting and promising change happening in India. While there are some obstacles and sticky negotiations that need to take place, I’m confident that once payment banks and small banks open their doors, their convenience and ease of usage will make financial inclusion a reality for millions in India.

Related

Comments

After untold millions of dollars were poured into the failed notion that big banks could or would “bank the unbanked,” The Reserve Bank of India is courageously following what Albert Einstein observed more than half a century ago — “We can’t solve problems by using the same kind of thinking we used when we created them.”

At its core, the challenge of ‘Financial Inclusion’ is reversing generations of ‘Financial Exclusion’ of low- to moderate-income (LMI) consumers by traditional financial institutions that actively served the needs of more affluent members of society.

Anyone familiar with the work of Mohammad Yunus and the genesis of his Grameen Bank, knows that such financial exclusion did not occur by accident. It emanated from a belief of bankers that ‘poor people’ did not need, nor did they deserve, relationships with banks.

Had Professor Yunus not succeeded in demonstrating the business case for extending banking services to seemingly impoverished people, this institutionalized financial exclusion and discrimination might well continue unchallenged to this day.

Sadly sovereign governments, global aid organization, philanthropies and others that witnessed Yunus’ success and wanted to change this dynamic, turned to the very same big banks that were responsible for the exclusion of these people. These banks were happy to accept the funds to develop inclusionary programs. But, they were less than happy – and demonstrably less than successful – in actually using the funds to implement widespread inclusion programs.

To its credit, India’s Reserve Bank recognized the folly of all of this wasted effort and resources of the past and realized something had to change. Big banks had demonstrated they possessed neither the ability nor the will to serve LMI consumers beyond their existing, primarily urban, branch footprints. While at the same time, microfinance organizations, telcos and other non-bank entities were enthusiastically facilitating forms of financial inclusion of ignored consumers with bank-like services.

By focusing its attention and development efforts on smaller existing banks and creating special purpose ‘Payment Banks,’ somewhere between banks and non-banks, the RBI has a fighting chance of Finally making financial inclusion a reality in India.

Sadly, the need for this open-mindedness is not limited to the developing world. Here in the United States, organized financial inclusion efforts continue to ignore the proven potential of relationships between government-insured financial institutions and non-bank financial service providers to serve the financial needs of LMI consumers who do not have ‘banking’ relationships, by choice or by circumstance.

I am excited to watch the RBI’s progress and hopeful that other countries will follow its lead and see that the key to serving the financial needs of non-traditional consumers lies in non-traditional approaches.